Invesco Mortgage Capital Inc. — Q1 2012 Form 10-Q
Business context and period. This unaudited filing covers the three months ended March 31, 2012, with balance-sheet comparisons to December 31, 2011 and operating comparisons to Q1 2011. The externally managed REIT invests primarily in Agency and non-Agency residential mortgage-backed securities (RMBS), commercial mortgage-backed securities (CMBS), and mortgage-related investments, largely financed with short-term repurchase agreements.
Financial results and position
| Metric | Q1 2012 / March 31, 2012 | Comparable period / prior year-end |
|---|---|---|
| Interest income | $142.0 million | $68.5 million in Q1 2011 |
| Interest expense / net interest income | $55.3 million / $86.7 million | $15.6 million / $53.0 million in Q1 2011 |
| Net income attributable to common shareholders | $83.1 million; $0.72 per share | $52.2 million; $1.01 per share in Q1 2011 |
| Other comprehensive income | $226.2 million | $40.1 million in Q1 2011 |
| Assets / total equity | $15.90 billion / $2.15 billion | $14.77 billion / $1.92 billion at December 31, 2011 |
| MBS portfolio at fair value | $15.58 billion | $14.21 billion at December 31, 2011 |
| Repurchase-agreement borrowings | $13.01 billion; weighted average rate 0.61% | $12.25 billion; 0.68% at December 31, 2011 |
| Cash / restricted cash | $155.8 million / $16.1 million | $197.2 million / $74.5 million at December 31, 2011 |
| Cash flows | Operating +$101.3 million; investing −$877.2 million; financing +$734.5 million | Operating +$49.3 million; investing −$1.64 billion; financing +$1.80 billion in Q1 2011 |
| Common dividend declared | $0.65 per share | $1.00 per share in Q1 2011 |
At quarter-end, reported debt-to-equity was 6.04x. Management reported average portfolio yield of 3.72%, average hedged cost of funds of 1.70%, and net interest margin of 2.02%. Fully diluted book value per share was $18.42, versus $16.41 at year-end 2011.
Material changes versus the comparable period
- Average MBS investments grew to $15.3 billion from $6.4 billion in Q1 2011, supported by leverage and prior equity offerings. Interest income and net interest income increased, but common-share earnings per share declined as the weighted-average share count more than doubled.
- Average portfolio yield fell from 4.27% to 3.72%; average hedged funding cost rose from 1.15% to 1.70%. Net interest margin narrowed from 3.12% to 2.02%, and annualized return on average equity declined from 18.58% to 16.16%.
- Net unrealized gains in other comprehensive income were $226.2 million, including $209.1 million on available-for-sale securities. Management attributed the increase in book value largely to market-value changes in the portfolio and hedges. These marks affect reported equity, not current-period net income in the same way.
- The company purchased approximately $2.3 billion of MBS during the quarter and sold securities for a reported $6.0 million gain. Quarter-end portfolio mix was 52.0% Agency RMBS, 28.5% non-Agency RMBS, 17.1% CMBS, and 2.4% unconsolidated ventures and other investments.
Outlook, risks, and unusual items
- Outlook: The filing gives no specific earnings or dividend guidance. Management said it believed available cash flow and borrowing capacity could meet anticipated short-term liquidity needs, including investments, distributions, and margin requirements. Long-term liquidity depends on obtaining additional debt financing. The company intends to continue regular quarterly distributions, subject to operating and debt-service requirements and REIT rules.
- Funding and liquidity risk: Repo financing is generally short term and subject to renewal, collateral repricing, haircuts, and margin calls. All $13.0 billion of reported repo borrowings were categorized as due within one year in the contractual-obligations table. Management reported compliance with repo covenants. Securities pledged to repo counterparties were about $14.4 billion, a 111% collateral ratio.
- Interest-rate and hedge exposure: Interest-rate swaps with $6.925 billion notional were designated as cash-flow hedges. Derivative liabilities were $380.2 million at fair value; the filing also reports approximately $470 million of Agency RMBS and $90,000 cash posted as swap collateral. Management estimated that, under its modeled instantaneous rate scenarios, a 100-basis-point increase would raise projected net interest income 11.30% and reduce portfolio value 1.88%; a 100-basis-point decrease would reduce projected net interest income 48.48% and increase portfolio value 0.55%. These are model estimates, not forecasts.
- Credit and valuation: Gross unrealized losses on MBS were $96.9 million at quarter-end, including $89.2 million across Agency CMOs, non-Agency RMBS, and CMBS. Management characterized these as non-credit-related and reported no other-than-temporary impairments in Q1. Non-Agency RMBS had substantial California concentration (50%); actual credit outcomes and fair values remain uncertain.
- Other commitments and contingencies: Approximately $20.3 million remained committed to the Invesco PPIP Fund. The company’s single disclosed credit-default swap had $103.3 million notional and maximum potential future undiscounted payments, with approximately $16.0 million collateral held by the counterparty. Management reported compliance with derivative agreement financial provisions. No legal proceedings were reported; disclosure controls were deemed effective, with no material change in internal control reported.
- Market and regulatory risks: The filing highlights prepayment and extension risk, changing interest rates and spreads, counterparty and refinancing risk, property and mortgage credit losses, potential policy changes, and maintaining REIT and Investment Company Act status. Management reported that it believed the company met REIT tests at March 31, 2012.
Important facts for investors to verify
- Whether repo lenders renew financing on acceptable terms and whether liquidity is sufficient for margin calls under adverse market moves.
- How portfolio yield, hedging costs, prepayments, and asset mix affect the narrowed net interest margin and future distributable earnings.
- The quality and valuation of non-Agency RMBS and CMBS, including California concentration, and whether unrealized losses remain non-credit-related.
- Whether the $0.65 quarterly dividend is supported by taxable income, cash flow, and financing conditions; the filing does not provide forward dividend guidance.
- The sensitivity of book value and reported results to security and derivative marks, and the assumptions behind management’s interest-rate sensitivity estimates.